20 January 2020

Assessing lender risk in fund finance markets (GLI Chapter 2020)

Lawyers from Jersey and the Cayman Islands have contributed to Global Legal Insight's 2020 guide to assessing lender risk in fund finance markets.

A zero-risk product?

Despite being a relatively long-standing lending product, until very recently there had been no public payment defaults by funds in the fund finance space, and consequently, no test cases to discuss or examine. As a result, the market has legitimately considered this to be a safe product for lenders, and encouraged more market participants to dip their toe, or even to jump feet first, into the water.

The complexity and cross-jurisdictional dimensions of many fund structures, coupled with the size of the financial transactions and their relatively slim margins, mean that lenders need to be more alert than ever to their possible exposure. This applies equally to new entrants and established players. Risks can be exacerbated by the lender having no direct contractual nexus with fund investors (who might ultimately be responsible for repaying fund borrowings). As the market continues to be seen as an attractive method of generating returns for investors and lenders alike, the number of funds, and lenders participating in it, has continued to increase. Moreover, recent trends show the secondaries market continues to boom, presenting new challenges and opportunities to lenders in that space. We examine below some of the key risks that lenders should be aware of and discuss strategies to manage and mitigate these risks.

Our expertise is in advising lenders in relation to funds established in our key jurisdictions, principally the Cayman Islands, Guernsey and Jersey, although we also see activity in the British Virgin Islands and Bermuda. The market in each of these jurisdictions is broad and we see all types of alternative asset classes. The areas of risk that we focus on herein relate to:

  • complex fund structures, primarily involving fund partnerships; and
  • market risk.

In discussing these risks, we highlight the importance of engaging lender counsel at an early stage, both to conduct full diligence on the structure and to manage the documentation risk. We also explore and consider briefly how developments in fintech might be able to reduce or mitigate these risks or eliminate them altogether. Institutional lenders are investing heavily in fintech in other areas of their business, and there are some obvious efficiencies that could be achieved in this space.

This comprehensive guide includes:

  • Complex fund structures
  • Typical structures in our jurisdictions
  • Feeder vehicles
  • Legal perspective
  • Waiver of commitments
  • Market risk
  • Competition in the market
  • Concentration risk
  • Rogue sponsor/mis-selling to investors
  • Liquidity risk

You can download the complete guide through the download button on the right hand side.

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